Shootout at the Rate Hike Corral

At long last, the big day is finally here. For nearly two years, Macro Man has been operating off of a playbook in which the Fed more or less follows the timescale (and verbiage) of the previous transition from easing policy (in June 2003) to hiking rates (in June 2004.) According to his template, the Fed is supposed to hike rates a year after the last easing- which in this case would mean October, 12 months after the final QE asset purchases.

Of course, given the sensitivity to the lift-off, he presumed that the Federales would wish to make the first move at a quarterly meeting, thus providing the cover of a forecast round and a regularly scheduled press conference, etc. He had thus forecast a September hike, because September is closer to October than December is, and frankly he cannot completely discard his normative view that ditching ZIRP is way overdue.

As mentioned recently, however, he has to concede that as much as he would like the Fed to move today, the events of the last month make it appear somewhat unlikely that they will do so. Nevertheless, there are a number of points about today's announcement that bear watching:

* The rate decision. Yay or nay? This is an obvious binary question of whether they hike or not, and will be the first thing reported when the red headlines hit the tape.

* The wording around the decision. Does the Fed indicate a willingness to move should financial market volatility recede? Do they still hang their hat on inflation moving up (more on this below)?

* Growth and inflation forecasts. Data released since the last forecast round suggest that growth estimates will be moved up and unemployment forecasts may be nudged down. Headline inflation, however, will be moved down on commodity price weakness. Core CPI, at least, has been relatively stable at levels just below the core PCE target. Will the FOMC nudge down its core inflation forecasts to "compensate" for higher growth forecasts so as to justify unchanged rates?

* 2015/16 dot plots. Assuming no hike, it seems reasonable to expect the central tendency of these to be moved down, perhaps substantially. Will the market once again rally to price in substantially less than the FOMC "forecasts"?

* Long run dot plot. Consensus is in close to universal agreement that these will be marked down substantially to soften the blow of any lift-off that the Fed may begrudgingly do before humans colonize Mars.

* The press conference. Obviously Yellen can provide some nuance in her remarks and in a softball question or two from pet journalists. Consensus seems to have coalesced around either a "hawkish unched" or a "dovish hike." Any deviation from that message will put the cat amongst the pigeons; the risk, it would seem, is skewed towards a dovish unched, given....well, the evidence of the last six years or so.

Regular readers will know that Macro Man has the view that the Fed (and other monetary authorities, for that matter) have an overgenerous view of their ability to influence and induce inflation given the secular trends in place in the global economy. It's an article of faith amongst observers that the Fed PhDs, particularly Bernanke, have studied Japan and the Depression and wish to avoid the mistakes of others/the past, etc.

That's all well and good, and policies have been in place for a long, long time to ensure that those outcomes will not occur. Perhaps some at the Fed really are concerned of a slip into corrosive deflation. If so, they may need a refresher of what corrosive deflation really looks like (hint: nothing like we've seen in the US.)

Hey, here's a fun fact: if we calculate the trend in core CPI from 1996-2005 (more or less a full economic, market, and policy cycle) and extrapolate it forwards, we find that the level of the core CPI index is actually a little too high- in other words, we've had a little too much core inflation! Of course, if we manipulate the base period by a year or two, we can achieve a result that suggests that the current level of core CPI is a little too low. Ultimately, this probably tells us more about arbitrary definitions of the "right level of inflation" than it does about anything else.

Another canard that's often trotted out is that the Fed does not want to repeat the mistakes of the Depression, and thus needs to avoid tightening policy. I'm sorry, but anyone who is still wheeling that one out is talking either their (leveraged) book or complete bollocks. The post-GFC era looks literally nothing like the Depression. Perhaps that's because of QE/ZIRP, etc, perhaps it's because there was a globally coordinated response to the crisis, or perhaps because there wasn't a trade/tariff war as there was in the 1930's. Either way, the performance of both equities/earnings and inflation have been radically different this time around than they were following the Depression.

At the equivalent point in time, neither stocks nor CPI had come anywhere near their pre-crisis peaks...and the Fed had already tightened policy. These days, both the SPX and CPI are comfortably above their pre-crisis highs...and have been for a long time (especially CPI!!!)

Macro Man hopes that readers will forgive this digression, but he really feels that it's important to recognize that the drama of the real economy impact of a modest lift of interest rates is really quite overblown.

Of course, there may be financial market blowback that impacts the real economy. However, if that's the case, it's hard to see how delaying and allowing imbalances to grow even further makes any sense whatsoever. But naturally, you've heard all of this before in this space and elsewhere, so there's no real need to carry on.

In closing, Macro Man:

* thinks the Fed should hike
* expects them to bottle it
* agrees with the consensus take that the Fed will attempt to "sterilize" the rate decision by leaning the other way in its commentary
* but remains fearful of a straight up dovish slant
* will look to fade any strong rally in the very short end
* struggles to muster any conviction in equities, other than a jaundiced view that the market will try to separate as many punters from their money as possible in the aftermath of the decision

You can almost see punters and FOMC members moseying through the town of P/L Tombstone for a Shootout at the Rate Hike Corral. Many enter, but few leave. Who will it be?

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deeeeep otm ewz Oct calls is the hedge for no hike/dovish tone you fear. For what it is worth ML FM report shows cash levels back at Lehmann highs. EM FX/Equities and commodities are most hated areas, EWZ combines all 3 and will continue to rally extremely hard if we get that. Although it is a basket case long term.

allow me to elaborate here regarding my short positioning. I need 1/2 in place before announcement, and it is already in place at 1986, because i could not believe how lucky i was to get so near the 1990s

1) before announcement indeed2) knowing 1840 was traded last month and that a top is in place (i give it a 99% probability)3) having seen the colossal 1990s rejection already (which i traded short on the Estoxx side of the Atlantic)

always interesting to discuss trading styles here.

People wary to short are never short. Simple. Noone had time to short last month. If you ever wanted to trim longs and/or go short after the August surprise, this bounce into Fed is the golden opportunity

yes you might enter 10/20 points above, on a stop run above 2000 right after announcement, which is what the other 1/2 is waiting for but imagine it just goes right down: you have just missed a telegraphed third leg down, and you won't be comfortable to short lower where all the ghosts may see a dip

Nico, I agree with the idea to short into a move higher, but my strategy will be to wait as I think there will likely be a pop to 2020-2050. I think I should be able to get a fill at those levels in the spaz move before and immediately after. But there is a risk I may not get that as you mention.

MM, it is very predictable, the Fed will do what the Fed funds futures say the week before! They have not surprised the market since the 1990's (?1994), so how could this, the most dovish Fed ever, possibly risk sp00king the market in any way, by a "surprise" hike.

Perhaps, when you are a billionaire, you could start including videos on this site, comedy sketches perhaps. I could imagine a good parody of the current meeting with a waiting for Godot skit. Or maybe one where the super geriatric members are in a huddle wearing John McEnroe type sweat bands on their heads, one is saying "let's do that 0.25cm hike today", and Yellen is on the potty exclaiming "I want to do it, but it's too risky...".

Really good post man , (macro man) but booger , your post is just gold. A bunch of ego driven geriatrics sitting around pontificating about their vive affecting millions outside of their bubble. Really.....you couldn't make this shit up.

given how light positions are, tend to think the first move is the wrong move - no original thought provided sorry

Anyway, on the Fed. The best for the market, I think, would be a dovish hike which would likely be a VERY dovish hike. It does seem to me, though, that a lukewarm "unch" will be what we'll get. I would love to see short-rates have a seizure here, but I have stopped believing in it, I have to say. A couple of overall points, though.

1) The 2s10s inversion was the old recession signal; the 2s5s is the new one. I.e. terminal rates will be lower in this hiking "cycle"

2) Short Spoos, EM, etc at your leisure chaps, but I am calling your bluff. In six months, passive beta chasers will be feeling a lot better. Sorry, thanks for playing. This is not the time for the big short. Energy and EM to outperform.

One other idea making the rounds is 'unchanged with references to other policy tools' - the implication being that they don't want to hike now and the 'no ammo' canard can be dealt with by employing non-ffr tools. Yet another wildly bullish outcome.

With lower than even normal pre-fomc liquidity I think the reaction moves could be quite large.

It really is beyond absurd that they think the unemployment rate will be 5% or below and that ZIRP is still justified. They really have no intellectual credibility left. I tend to agree with Nico that this is not a good thing for markets, and find myself hoping that smug, mindless buyers of risky assets find their comeuppance sooner rather than later.

So it really never had a chance with the 9-1 vote despite the media on the edge talk. The same old story of more labor market improvement and laggy wage inflation following low UR and transitory oil recovery lag. But the point is if the proportion of part time jobs get bigger, then isn't there even less upward pressure for wages despite what the UR?

Will this mark the beginning for a longer term down on DXY? If so, Draghi and his cronies are going to need to get some more revs out of the printing press and they've been talking about it on a couple occasions already IIRC. What do ppl think EMs and gold here?